Talbots Scores by Emphasizing Color

WE ARE UPGRADINGTalbots
from HOLD to BUY based on positive customer reception to the new holiday flows.

The company's latest flows infuse far more color than we saw during the fall selling season. We have noted increased traffic and buying, and our survey of stores across the nation suggests positive reaction to the color appears to be nationwide. We note the improvement in regular price selling (positive mid teens in October), which, if sustainable, could drive a better-than-expected holiday.

Same-store sales in the first half of 2005 are not as difficult as almost all of the company's competitor comps. The dress business (which was only about 5% of total sales in the first half of 2004) weighed heavily on comp performance, with our estimate that dress comps were down over 50% for most of the first half of the year.

We believe the company's sales productivity has hit a low point, with our estimate of about $363 per gross square foot for the year, the low in a range of $363 to $459 over the past five years.

We note the model is highly sensitive to operating margin expansion and sustainable positive comps would enable the company to leverage its fixed expenses and drive earnings.

We are maintaining our fiscal year 2004 and fiscal year 2005 earnings per share estimates of $1.69 and $1.84, respectively, but are raising our price target from $24 to $35 based on our belief that the company's operating margins have room for expansion as the company posts sustainable positive comps. Our 12-month price target of $35 is based on an 18.75x multiple (15% longer-term growth rate, adjusted for a 25% premium for potential earnings upside) times our fiscal year 2005 earnings per share estimate.

-- Adrienne Tennant

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